To track the intended -- and more importantly, unintended -- consequences of policies,market movements,buyout deals and regulatory censure. This forum will map the multiplier effect of what may seem minor events initially but spread out far and wide.

11/04/2010

The story of sinking money: Old & New

We heard an interesting story about ‘money’ in our Global Economy class – about commodity money to be specific -- a few days back. It made me smile as I realized how the more things change supposedly, the more they remain the same J

Here goes the story:

About 500-600 years, the inhabitants of a tiny island called Yap, amidst the scattered specks of sovereign island nation Micronesia found its money in large, circular stone disks carved out of limestone. Called ‘Rai stones’, these coins were sometimes up to 10 feet in diameter and could weigh 4 metric tons. This wasn’t exactly our common jingling-loose-change-in-the-front-pocket that we reduce coins to!

A Rai Stone specimen

Source: Friar Forex website

Quarried from the island of Palau, these stone-coins were punctured with a hole in between so that men -- as many as hundreds sometimes – could put a bamboo through it and lug it on canoes and rafts to Yap, where they were used in transactions.

It’s value depended not just on how huge and exquisite it was but on whether the stone has a story. If many people – or none at all -- died in its transportation, it became far more precious. Rai stones till date are transacted upon in Yap on traditional ceremonies such as marriages, inheritance or to bury a family dispute!

In one instance -- and that’s where I got hooked -- a Rai being transported by canoe was accidentally dropped and it sunk to the sea floor. Although it was never again seen not could it be retrieved, still everyone continued transacting on it as if it were genuine currency for years thereafter.

As everyone agreed, Rai must still be there!!

Why does it remind me so much of the mortagaged-backed securities (MBS) and the umpteen times it was wrapped in yet another layer of securitization, until the structure became so complicated that nobody knew how to price it anymore? Or what was the piece of paper worth that they were holding in their hands?

Just like the Rai stone, these MBS just went on being traded since everyone agreed the houses and their value must be there, somewhere….and just like the rai stone, it had sunk, sitting somewhere deep down in the value spiral…and was as irretrievable as the stone-coin.

The only good reason why the ‘Rai’ bubble never burst was because nobody ever knocked on the doors of the guy from whom he had bought it off saying, “I don’t want this piece of paper anymore. I want the real deal. Go get the stone!” The real deal that just happened to be sitting at the sea-bed.